Don't Go Chasing Waterfalls: Fiduciary Duties in Venture Capital Backed Startups

38 Pages Posted: 9 Nov 2020 Last revised: 25 Jan 2021

See all articles by Sarath Sanga

Sarath Sanga

Northwestern University - Pritzker School of Law

Eric L. Talley

Columbia University - School of Law; European Corporate Governance Institute (ECGI)

Date Written: October 31, 2020


Venture-capital-backed startups are often crucibles of conflict between common and preferred shareholders, particularly around exit decisions. Such conflicts are so common, in fact, that they have catalyzed an emergent judicial precedent – the Trados doctrine – that requires boards to prioritize common shareholders' interest and to treat preferred shareholders as contractual claimants. We evaluate the Trados doctrine using a model of startup governance that interacts capital structure, corporate governance, and liability rules. The nature and degree of inter-shareholder conflict turn not only on the relative rights and options of equity participants, but also on a firm's intrinsic value as well as its value to potential third-party bidders. Certain combinations of these factors can cause both common and preferred shareholders' incentives to stray from value maximization. We show that efficient decisions can be induced by an "anti-Trados" rule that emphasizes preferred shareholders' interests and treats common shareholders as contractual claimants. The Trados doctrine, by contrast, cannot categorically reconcile private interests with value maximization. More generally, our model offers a precise mechanism through which corporate governance and capital structure jointly determine firm value.

Keywords: Venture Capital, Preferred Stock, Fiduciary Duties, Liquidation Preference, Conversion Rights, Contract Design, Corporate Governance, Efficient Breach

JEL Classification: G30, G34

Suggested Citation

Sanga, Sarath and Talley, Eric L., Don't Go Chasing Waterfalls: Fiduciary Duties in Venture Capital Backed Startups (October 31, 2020). Available at SSRN: or

Sarath Sanga (Contact Author)

Northwestern University - Pritzker School of Law ( email )

375 E. Chicago Ave
Chicago, IL 60611
United States

Eric L. Talley

Columbia University - School of Law ( email )

435 West 116th Street
New York, NY 10025
United States


European Corporate Governance Institute (ECGI) ( email )

c/o the Royal Academies of Belgium
Rue Ducale 1 Hertogsstraat
1000 Brussels

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